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What is trade finance?

Trade Finance has been reviewing the global trade market since 1983. The remit of what wecover is somewhat broad, and as the market evolves to meet the requirements of financing global trade, so our content has changed.

The following is a guide for those of you new to the market, those looking for clarification, and those of you who have bluffed your way through up to this point.

What is trade finance? 

There are various definitions to be found online as to what trade finance is, and the choice of words used is interesting. It is described both as a ‘science’ and as ‘an imprecise term covering anumber of different activities’. As is the nature of these things, both are accurate. In one form it isquite a precise science managing the capital required for international trade to flow. Yet withinthis science there are a wide range of tools at the financiers’ disposal, all of which determine how cash, credit, investments and other assets can be utilised for trade.

In its simplest form, an exporter requires an importer to prepay for goods shipped. The importer naturally wants to reduce risk by asking the exporter to document that the goods have beenshipped. The importer’s bank assists by providing a letter of credit t o the exporter (or theexporter's bank) providing for payment upon presentation of certain documents, such as a bill of lading . The exporter's bank may make a loan to the exporter on the basis of the export contract.

Below I have outlined the various ways in which trade is financed by banks beyond the basic financial transaction described above – which I would refer to as traditional trade finance. I havedivided this extended definition into the sectors which Trade Finance as a channel for the latest news and analysis for this market strives to cover.

Trade services and supply chain

Building on what I have termed traditional trade finance, there are a number of ways in whichbanks can help corporate clients trade (both domestically and cross-border) for a fee.

 A typical service offering from a bank will include:

Letters of credit (LC), import bills for collection, shipping guarantees, import financing, performance bonds, export LC advising, LC safekeeping, LC confirmation, LC checking and negotiation, pre-shipment export finance, export bills for collections, invoice financing, and all therelevant document preparation.

Despite this focus on the LC, over the years the term trade finance has been shifting away fromthis sometimes cumbersome method of conducting business. It is now estimated that over 80%

of global trade is conducted on an open account basis.

Led by large corporates, this form of trade saves costs and time and so has been adopted by smaller corporates as they become more comfortable with their buyer and supplier relationships.Open account transactions can be described as ‘buy now, pay later’ and are more like regular 

 payments for a continuing flow of goods rather than specific transactions. This is much cheaper for corporates.

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In response to this development, the organisation SWIFT launched the TSU (trade servicesutility), a collaborative centralised data matching utility, which allows banks to build productsaround its core functionality to improve the speed and flow of open account trade. This is helping banks re-intermediate themselves into these trade flows.

While volumes of LCs have remained flat in recent years, their value actually increased and they 

remain an essential part of emerging market trade and trade in countries where exchangecontrols are in force. This increase in value is also a reflection of the commodity price boom of 2007/08.

Factoring & Forfaiting 

Factoring, or invoice discounting , receivables factoring or debtor financing, is where acompany buys a debt or invoice from another company. In this purchase, accounts receivable arediscounted in order to allow the buyer to make a profit upon the settlement of the debt.Essentially factoring transfers the ownership of accounts to another party that then chases up thedebt.

Factoring therefore relieves the first party of a debt for less than the total amount providing them

with working capital to continue trading, while the buyer, or factor, chases up the debt for the full amount and profits when it is paid. The factor is required to pay additional fees, typically a small 

 percentage, once the debt has been settled. The factor may also offer a discount to the indebted  party.

Forfaiting (note the spelling) is the purchase of an exporter's receivables  – the amount importers owe the exporter – at a discount by paying cash. The purchaser of the receivables, or forfaiter , must now be paid by the importer to settle the debt.

 As the receivables are usually guaranteed by the importer's bank, the forfaiter frees the exporter from the risk of non-payment by the importer . The receivables have then become a form of debt instrument that can be sold on the secondary market as bills of exchange or   promissory notes.

Structured Commodity Finance

Structured commodity finance (SCF) as covered by Trade Finance is split into three maincommodity groups: metals & mining , energy , and soft commodities (agricultural crops). It is afinancing technique utilised by commodity producers and trading companies conducting business in the emerging markets.

SCF provides liquidity management and  risk mitigation f or the production, purchase and saleof commodities and materials. This is done by isolating assets, which have relatively predictablecash flow attached to them through pricing prediction, from the corporate borrower and using them to mitigate risk and secure credit from a lender. A corporate therefore borrows against a

commodity’s expected worth.

If all proceeds to plan then the lender is reimbursed through the sale of the assets. If not then thelender has recourse to some or all of the assets. Volatility in commodity prices can make SCF atricky business. Lenders charge interest any funds disbursed as well as fees for arranging thetransaction.

SCF funding techniques include pre-export finance, countertrade, barter , and inventory finance. These solutions can be applied across part or all of the commodity trade value chain:

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from producer to distributor to processor, and the physical traders who buy and deliver commodities.

 As a financing technique based on performance risk, it is particularly well-suited for emerging markets considered as higher risk environments.

Export & Agency Finance

This part of Trade Finance’s remit covers the roles of the export credit agencies, thedevelopment banks, and the multilateral agencies. Their traditional role is complement lending by commercial banks at interest by guaranteeing payment.

These agencies have once again become of vital importance to the trade finance market due tothe role that they play in facilitating trade, insuring transactions, promoting exports, creating 

 jobs, and increasingly through direct lending . All are important in the current global downturn.

ECAs are private or governmental institutions that provide export finance, or credit insuranceand guarantees, or both. ECAs can have very different mandates which we will not delve intohere (please refer to Trade Finance’s annual World Official Agency Guide ). As the global economic crisis continues we are seeing a trend towards a liberalisation of these agencies’ remits.

The development banks, sometimes referred to as DFIs (development finance institutions), and the multilaterals similarly have different mandates depending on their ownership or regional remit. Most will have a form of trade facilitation programme that promotes trade through the

 provision of guarantees.

ECAs and multilaterals are becoming a crucial part of the financing of large infrastructure projectsaround the world as credit from commercial banks remains scarce.

 And the rest…

It doesn’t stop there, Trade Finance also follows: the trade credit  insurance and  political risk insurance markets – an important part of doing business in developing economies; thesyndications market as banks and agencies lend funds to enable the trade finance activities of other institutions; Islamic trade finance through its increasing popularity and expansion beyond its historic markets; and finally Trade Finance follows the changes in global regulations and tracks the law firms and in-house legal teams that contribute to making deals happen.

Make sure you stay abreast of the latest news and analysis across the spectrum of global tradewith Trade Finance – the information source on the trade, supply chain, commodity and export finance markets.

Free glossary of Trade Finance termsHere is the Trade Finance guide to terminology used across the trade, supply chain, commodityand agency finance markets. It is not a replacement for legal or f inancial advice and as theindustry changes we will endeavour to update it.

If you notice any omissions or would like to suggest any changes please email:

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Oliver O’Connell, Editor ooconnell@euromoneyplc.com 

 ACCEPTANCEThe beneficiary presents its documents together with a bill of exchange payable at a future datestipulated in the credit. The bank accepts the bill of exchange by signing it, and returns it to the

beneficiary. Acceptance of a draft obliges the acceptor to pay it at maturity.

 ACP COUNTRIESThe 69 African, Caribbean and Pacific countries which signed the Lomé Convention.

 ADVANCE COMPENSATION A forward purchase.

 ADVANCE FEE FRAUD Advance fee fraud covers a variety of situations in which a fraudster persuades a victim to pay him anadvance commission in connection with the arrangement of financial facilities. Before the victimrealISes that the deal is a sham and that no facilities are available, the fraudster runs off with thecommission.

 ADVANCE PAYMENT GUARANTEE/BOND A guarantee or bond provided by a bank to the buyer. The guarantee/bond undertakes to return to thebuyer on behalf of the supplier, usually on demand, downpayments or progress payments made if thesupplier fails to complete the contract.

 ADVISING BANK A bank in the beneficiary’s country – usually a correspondent of the issuing bank – through which theissuing bank communicates the credit to the beneficiary. It may also be asked to confirm and/or pay thecredit.

 AGENCY FEE An annual fee payable by the buyer, usually to cover the costs incurred by the lender in administeringthe financing.

 AGIOThe price increase over and above the market price of the traded goods and attributable to the extracosts involved in countertrading.

 AMENDMENT Any change made to the terms of a credit. The applicant initiates the amendment which then followsthe same process as a letter of credit.

 APPLICANTThe buyer who applies for a letter of credit.

 ASSIGNMENT OF POLICYThe assignment of a policy’s rights and benefits from the exporter to a lender.

 AVAILABILITYThe date by which a set of documents has to, or will, be delivered to the forfaiter ready for discounting.

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 AVAL An unconditional, irrevocable, divisible and freely transferable guarantee to pay the beneficiary on thedue date.

 AVALISING BANK A bank in an importer’s country which adds its aval to notes or bills in a forfaiting transaction.

 AVALOR An institution or person acting as a guarantor.

 AVERAGE LIFE An evaluation of the average time an asset will be outstanding given a specific repayment system.

BACK-TO-BACK LETTER OF CREDITTwo letters of credit normally involving the same bank which cover a single shipment of goods,involving a middleman. The second letter of credit is issued only because its issuing bank is happy thatthe first letter of credit represents good security. In practice this can be hazardous and many banks areunwilling to be involved in back-to-back transactions.

BARTERGoods and/or services are exchanged against other goods and/or services of equivalent value. Nomoney changes hands between the buyer and seller. (See countertrade).

BASIS POINTOne hundredth of one percentage point (0.01%). 100 basispoints = 1%.

BENEFICIARYThe person (for example, the exporter) in whose favour the credit is issued.

BERNE UNION

The Berne Union is the leading association for export credit and investment insurance worldwide,working for cooperation and stability in cross-border trade and providing a forum for professionalexchange among its members.

BID BOND A bond provided by a bank to the buyer promising compensation, usually on demand, in the event thata supplier declines to enter into a contract in conformity with the bid he has put forward.

BILATERAL CLEARING ACCOUNT A trading agreement between two countries, neither of which has a hard currency, in whichtransactions are entered in clearing units instead of a fixed currency.

BILL OF EXCHANGE

 An unconditional order in writing addressed by one person to another, signed by the person creating it(drawer), and requiring the addressee (drawee) to pay a certain sum of money to the drawer at a fixedor determinable future time .

BILL OF LADINGIssued by a shipping company to the shipper as a receipt for the goods, a memorandum of the contractof carriage and a document of title.

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BLOCKED FUND LETTERS (BFL)In cases where a fraudster has enticed an investor into a bogus scheme where the invested fundsremain on deposit earning interest in the investor’s bank, the investor is told to obtain a blocked fundletter (BFL) from his bank. This letter promises to pay funds from the victim’s account to the holder of the letter.

The fraudster, often with the help of a third party such as a lawyer, obtains control of the BFL which heuses as collateral to get a loan at a bank of his choice. The fraudster can then default on the loan andflee. Under the BFL the issuing bank must pay the lending bank and the victim loses his money.

However, the banking community does not recognISe BFLs as banking instruments and they shouldnot be issued by banks or accepted as collateral.

BOLEROBolero is a neutral secure platform enabling paperless trading between buyers, sellers, and their logistics service and bank partners. Solutions integrate the physical and financial supply chains,providing visibility, predictability, accuracy and security. This delivers improvements in operationalefficiencies and reductions in working capital.

BUY-BACK An agreement to buy products that will eventually be produced by the capital equipment supplied under the export sales agreement.

BUYER CREDIT A financing arrangement under which a lending bank in the supplier’s country lends directly to thebuyer or to a bank in the buyer’s country to enable the buyer to make payments due to the supplier under a contract.

BRIDGE FINANCINGInterim financing replaced by an ECA-backed or pre-export finance solution.

CARRIAGE AND INSURANCE PAID TO (CIP)The seller delivers the goods into the custody of the carrier and pays for the costs of carriage to theagreed destination. He also effects insurance of the goods at his own cost. The goods travel at thebuyer’s risk.

CARRIAGE PAID TO (CPT)The seller delivers the goods into the custody of the carrier and pays for the costs of carriage to theagreed destination. The goods travel at the buyer’s risk.

CASE OF NEEDThe person or firm to whom collecting banks will refer if instructed to do so by collection orders in caseof difficulty. The powers of case of need may be advisory only or full and must be specified.

CATEGORY I COUNTRIESCategory I refers to relatively developed countries and is the Consensus classification based on GNPper capita income.

CATEGORY II COUNTRIESCategory II refers to intermediate income countries and is the Consensus classification based on GNPper capita income.

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CATEGORY III COUNTRIESCategory III refers to relatively under-developed countries and is the Consensus classification based onGNP per capita income.

CLAIMING BANKThe bank entitled to claim reimbursement of sums it has paid in respect of a payment, deferredpayment, acceptance or negotiation that it has carried out under the credit.

CLEAN COLLECTION A collection comprising financial documents only, not goods.

COFACECompagnie Française d’Assurance pour le Commerce Exterieur is the export credit agency of France.

CO-FINANCINGLoans made by a financial institution, such as an export credit agency or a commercial bank, inassociation with the World Bank or other multilateral development banks.

COLLECTIONSThe provision by a bank of a service to a customer allowing documents proving shipment of customers’

goods to be transmitted via itself and another bank to the buyer of the goods. The release of documents to the buyer, thereby giving him title to the goods, is normally dependent upon payment byhim or the promise to pay.

COLLECTING BANKThe bank in the buyer’s (drawee’s) country to whom the collection order and documents are directed.

COLLECTING ORDERThe set of instructions given to the remitting bank by the principal in a transaction. The remitting bankrelays the collecting order to the collecting bank.

COMMERCIAL INTEREST REFERENCE RATE (CIRR) A market rate for the currency concerned plus a margin, set under the Consensus to establish fixed

interest rates which are officially supported.

COMMERCIAL LETTER OF CREDIT A name sometimes given to a variant of documentary credit under which the credit is negotiable by anybank. The issuing bank requires all drawings to be noted on the credit document.

COMMERCIAL RISKThe possibility of non-payment arising from commercial causes such as bankruptcy, insolvency,protracted default and/or failure to accept goods that have been shipped according to the supplycontract.

COMMISSIONINGThe date on which the plant or equipment supplied is deemed contractually to have been completed

according to specification.

COMMITMENT FEE A fee, payable usually on a semi-annual or quarterly basis, by the buyer to reserve the availability of aloan. The fee is payable on the undrawn balances.

COMPENSATION A single agreement under which the exporter agrees to supply goods and services in exchange for goods and services of an equivalent value supplied by the importer, which the exporter must then sellto finance his original sale.

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COMPREHENSIVE COVERAGEExport credit insurance or guarantee which covers both commercial and political risks.

CONCESSION A grant or licence by a government or relevant authority of certain land, premises or other publicproperty, or the right to use or commercially exploit such assets for a specified time.

CONFIRMINGThe practice by advising banks of adding their separate undertakings to those of issuing banks andassuming liability under documentary letters of credit.

CONFIRMING BANK A bank which adds its own independent payment undertaking to that of the issuing bank. Theconfirming bank is normally in the beneficiary’s country. The confirmation protects the beneficiaryagainst the issuing bank defaulting, and political risk with regard to the country in which the issuingbank is situated.

CONSENSUS An arrangement between OECD (see OECD) member countries which sets the guidelines, including

maximum repayment terms and minimum interest rates, for officially supported export credits.

CONSIGNEEThe drawee (importer) in a collection.

CONSTRUCTIVE DELIVERYThe process of handing an applicant the documents in a documentary credit.

COST AND FREIGHT (CFR)The seller delivers the goods to the ship. Full risk and responsibility pass to the buyer when the goodscross the ship’s rail. The seller pays for the contract of carriage to the agreed port of destination.

COST INSURANCE AND FREIGHT (CIF)

The seller delivers the goods to the ship. All risks and responsibility in the goods pass to the buyer when the goods cross the ship’s rail. The seller pays for the contract of carriage to the port of destination and takes out cargo insurance at his own cost.

COUNTER CREDIT A variation of back-to-back credit in which a second bank (usually that of the original beneficiary) issuesa separate documentary letter of credit in favour of the second beneficiary.

COUNTER-INDEMNITY An exporter’s irrevocable commitment to repay the bank if a bond is called.

COUNTERPURCHASETwo separate agreements under which the buyer agrees to buy and pay for goods and the seller 

agrees to buy and pay for goods of a (usually) equal value.

COUNTERTRADE An umbrella term referring to a growing number of trading and financing techniques in which paymentis made either wholly or partly in the form of goods. (See barter.) .

CREDIT APPLICANTThe bank’s customer who requests the issue of the credit. For example, in the case of an export sale,the importer.

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CREDIT INSURANCEInsurance provided in exchange for a premium covering the loss incurred by a supplier in the case of non-payment by the supplier’s customer, due to the customer’s legal or de facto insolvency or simplefailure to honour its commitments (default), or for political reasons or as a result of force majeure.

CREDIT RISK

Risk that the insured will be unable to recover all or part of the receivable due to the occurrence of acause of loss.

CUSTOMS GUARANTEE A guarantee providing cover against possible customs duties. It is often used when goods are importedinto the country on a temporary basis. If the goods are not reexported within the prescribed time limitthe customs authorities can claim under the guarantee for the customs duties which subsequentlybecome payable.

DAYS OF GRACEReferred to in forfaiting, days of grace reflect the delay normally experienced in the transmission of payments applicable to the country risk involved. To calculate net proceeds this grace period is added

to the actual number of days until the respective debt instrument matures.

DEFERRED LETTERS OF CREDIT A credit providing for payment at a determinable future date following the presentation of documentswhich do not include a draft.

DEFERRED PAYMENTThe credit sum is payable at a stipulated period of time after presentation of documents.

DELIVERED AT FRONTIER (DAF)The seller fulfils his obligation to deliver when the goods have been made available, cleared for export

at an agreed point and placed at the frontier but before the customs border of the adjoining country.This term is primarily intended for cases where goods are to be carried by rail or road, though it may beused for any mode of transport.

DELIVERED DUTY PAID (DDP)The seller fulfils his delivery obligation when the goods have been made available at the agreed placein the country of import.

The seller bears all risks and costs in the goods up to that point.The agreed point of delivery may, for example, be the buyer’s warehouse or factory. This termrepresents the maximum obligation on the seller.

DELIVERED DUTY UNPAID (DDU)The seller fulfils his obligation to deliver when the goods have been made available at the agreed placein the country of import.

The risk in the goods passes to the buyer at that point and he is responsible for clearing the goodsthrough customs.

DELIVERED EX-QUAY (DUTY PAID)

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The seller fulfils his obligation to deliver when he has made the goods available to the buyer on thequay or wharf at the named port of destination cleared for import.

DELIVERED EX-SHIP (DES)The seller fulfils his delivery obligation when the goods have been made available to the buyer on

board the ship at the agreed port of destination. The risk in the goods passes to the buyer at thatmoment and the buyer is responsible for clearing the goods through customs.

DEMURRAGE A form of rent charged on undeclared goods by, for example, ship owners or port authorities. Alsocharged by container owners on boxes delayed.

DELIVERYFIB or CIF delivery of goods. (See FIB and CIF.) .

DELIVERY PERIODThe period during which goods are delivered, usually lasting between signature of the contract anddelivery of the final items.

DEVELOPMENT BANK or DEVELOPMENT FINANCE INSTITUTION (DFI) A lending agency that provides assistance to encourage the establishment of productive facilities indifferent countries.

DIRECT PAYMENTPayments due from the buyer to the supplier in cash during the contractual period, which are noteligible for financing under a buyer or supplier credit financing.

DISAGIOThe commission paid to a third party to market countertrade goods.

DISCOUNT RATEThe rate by which the future value of a negotiable instrument is discounted. The discount rate isgenerally calculated as either a discount-to-yield or straight discount.

DISCOUNT-TO-YIELDThis expresses the discount rates as a true interest cost, usually on a yearly basis. Maturities over 180days are mostly subject to semi-annual compounding. The discount-to-yield calculation is the yield a

present value will achieve as it reaches its future value (face value) at maturity.

DISCOUNTINGBuying accepted term bills of exchange at a discount to allow for loss of interest on the funds until thebills mature.

DISCREPANCY

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When documents presented do not agree with the terms of the credit or with each other.

DISHONOURThe refusal to pay or accept a bill of exchange.

DOCUMENTARY COLLECTION A collection concerning goods and entailing commercial documentation.

DOCUMENTARY CREDIT A letter of credit that calls for the presentation of specified documents, issued to effect payment duringa business transaction. It usually provides exporters with an independent bank promise of paymentagainst presentation of shipping documents.

DOCUMENTS AGAINST ACCEPTANCE (D/A)Where payment is to be made on documents against acceptance (D/A) terms, the presenting bankreleases the documents to the importer against his acceptance of a bill of exchanges. Sometimes the

buyer must sign a promissory note. The importer gains possession of the goods before makingpayment and can sell the goods immediately to get funds to pay the bill of exchange, thereby obtaininga period of credit. Payment terms are usually between 30- to 180-days after sight.

DOCUMENTS AGAINST PAYMENT (D/P)Where payment is to be made on documents against payment (D/P) terms, the presenting bank isauthorISed to release the documents to the importer only against immediate cash payment.

DOWNPAYMENT(Sometimes referred to as an initial direct payment.) The payment due from the buyer to the supplier incash before entry into force or effectiveness of the contract. (Usually ineligible for export credit agency

support.) .

DRAFTSee bill of exchange.

DRAWDOWN PERIODThe period during which the financing is available to be drawn.

DRAWEEThe party on whom a bill of exchange is drawn and which owes the indicated amount. In a collectionthis is the buyer.

DRAWERThe party that issues or signs a bill of exchange and stands to receive payment from the drawee.

ELECTRONIC DATA INTERCHANGE (EDI)Electronic data interchange (EDI) replaces paper documents with teletransmitted computer messages

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in a prearranged format.Different systems of communication exist for financial interbank messages and for non-financial sector businesses. Most corporate EDI operates within a single country. Inter-sectoral and internationalschemes are still the exception.

EQUIPMENT BONDSSometimes under projects such as construction contracts the buyer or employer buys and delivers thenecessary equipment instead of making the contractor an advance cash payment. The issuance of equipment bonds may cover the transaction.

ESCROW ACCOUNT A bank account set up in hard currency in the joint names of the buyer and seller and in which thevarious monies involved in the countertrade agreement (usually a forward purchase) are held in trust.

EVIDENCE ACCOUNTS A record of all imports and exports by the parties involved in an agreement that over a fixed period of time a specific ratio of sales to purchase must be achieved.

EXCHANGE CONTROLSRestrictions that are applied by a country’s monetary authority, or central bank, to limit the convertibilityof the local currency into other specific foreign currencies.

EXPORT CREDIT A loan to help the financing of the sale of capital goods and/or services eligible for a minimumrepayment period of two years, which is officially supported under the OECD Consensus.

EXPORT CREDIT AGENCY (ECA)The organISation which provides official support to facilitate exports from its country. Its main function isto provide insurance against the commercial and political risk of non-payment for the exports.Commercial risk cover includes eventualities such as the buyer going into liquidation. Political risk cover includes the eventuality of war, or a change in the importing government’s foreign exchange controlswhich might prevent the importer from effecting payment. Some export credit agencies provide

insurance cover only; others provide both insurance and medium- and long-term finance for capitalgoods. For a full list of the ECAs see Trade Finance’ s annual World Official Agency Guide.

 

EXPORT FINANCEThe provision by government or privately-owned companies of financial help to exporters designed toencourage the export of goods. The help may be via the insurance of export receivables and/or guarantees/insurance of export-related loans. Export finance applies to large transactions where creditover a period of years is required. Export finance is required when an importer needs deferred paymentterms for the product or services that an exporter seeks to provide.

EXPORT FINANCE LEASESometimes referred to as full payment leases. Such leases are written on a net basis with taxes,insurance and maintenance paid for by the lessee. The lease may include an option for the lessee tobuy the item at the conclusion of the lease term at a nominal value of the equipment.

EXPORT OPERATING LEASE A lease which exchanges the right to use property over a specific limited time period in return for a

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series of rental payments. The owner or lessor pays any taxes, any insurance and any maintenancecharges but also retains the tax benefit of any depreciation and any investment tax credits.

EXPROPRIATION RISKRisk of loss of an investment due to expropriation, nationalISation, or confiscation by a foreigngovernment. This risk is typically covered by political risk insurance.

FACTORINGThe purchase from a company of some or all of its trade receivables with or without recourse to thecompany itself in the event that the receivables are unpaid. The service may also involve administrationof the sales ledger for the company.

FATINGQuerying the status of a collection in relation to the exporter’s instructions to the remitting bank.

FINAL DELIVERY

The date on which final delivery is effected.

FINAL MATURITYThe date on which the final repayment of principal is due.

FIXED PRICE A fixed sum agreed at the outset of a contract, payable by the buyer for a specified task (also referredto as lump sum).

FIXED RATE An interest rate fixed throughout a set period of the loan financing.

FLOATING RATE An interest rate usually consisting of a variable market rate plus a fixed margin.

FORCE MAJEUREEvents over which none of the parties to a transaction has control or influence (acts of God).

 

FORFAITING

The purchase (without recourse to any previous holder of the debt instrument) of negotiable tradeinstruments resulting from the export of goods and services.

FORWARD PURCHASE A compensation agreement under which the buyer’s goods are delivered to the exporter in advance toenable him to raise the foreign exchange to pay for his own sale.

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FREE ALONGSIDE SHIP (FAS)The seller places the goods alongside the vessel on the quay or in lighters at the named port of shipment. The buyer bears all costs and risks of loss and damage from that moment.

FREE CARRIER (FCA)

The seller hands over the goods cleared for export to a carrier named by the buyer at the place agreedby the buyer and the seller. The buyer is responsible for the contract of carriage and all other formalities.

FREE ON BOARD (FOB)The seller delivers the goods to the ship and he is considered to have fully carried out his side of thebargain when the goods pass over the ship’s rail. The buyer bears full responsibility from that momentonwards.

FRONT END FINANCE (DOWNPAYMENT FINANCING) A commercial loan under which separate credit facilities are provided to finance the downpaymentand/or other direct payments not covered under a buyer or supplier credit financing.

GRACE PERIODThe period during which no repayments of principal (or principal and interest) are due from borrowersto lenders.

GREEN CLAUSE A form of credit where the goods awaiting shipment are required to be stored in the advising bank’sname.

HEDGINGReducing or mitigating risk, for example protecting against adverse foreign-exchange movement.

ICC (International Chamber of Commerce)The voice of world business championing the global economy as a force for economic growth, jobcreation and prosperity.

Because national economies are now so closely interwoven, government decisions have far stronger international repercussions than in the past.

ICC activities cover a broad spectrum, from arbitration and dispute resolution to making the case for open trade and the market economy system, business self-regulation, fighting corruption or combatingcommercial crime.

IJARAIslamic leasing. An ijara or lease financing involves the Islamic investor (or a special purposevehicle) purchasing an asset and leasing it to the lessee for a rent that is either agreed in

advance or adjusted regularly throughout the lease period, by consent, by reference to an“expert” or, in some cases, by reference to an interest-based index. An ijara is an operating lease with the lessor retaining ownership of the asset after the leaseexpiry but can be turned into a higher purchase arrangement by the grant of an option for thelessee to purchase the asset on a specified date (ijara-wa iqtina). Shari'a usually requires that themanagement, maintenance and insurance of the leased assets are the responsibility of the lessor so as to justify the profit made by the lessor, although mechanisms exist for the responsibility for these to be effectively passed back to the lessee.

IMF

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The International Monetary Fund (IMF) is an organISation of 185 countries, working to foster globalmonetary cooperation, secure financial stability, facilitate international trade, promote high employmentand sustainable economic growth, and reduce poverty around the world.

INCOTERMS

 An ICC published set of rules which define the responsibilities of buyers and sellers concerning whopays which expenses in the transit of goods from seller to buyer, over and above the original cost of thegoods.

INDEMNITY An undertaking issued by a beneficiary or his bank to reimburse a settling bank if the applicant rejectsthe documents.

INTEREST DURING CONSTRUCTION (IDC)(Pre-commissioning interest.) Interest payments due during the performance of the supply contract,which might be capitalISed and added to the principal amount outstanding.

INTEREST MAKE-UP AGREEMENT (IMU) An arrangement whereby a fixed rate loan is officially supported so that the lenders receive an agreedmargin over the cost of the lending.

INTEREST RATEThe rate at which interest is payable on any obligation.

IRREVOCABLE CREDITThe issuing bank and any confirming bank undertake an irrevocable payment obligation towards the

beneficiary. The undertaking cannot be cancelled or amended unless the beneficiary agrees.

ISLAMIC FINANCEIslamic finance is based on the principle that money must never spontaneously generate money.Instead, capital must be fecundated by labour, material or intellectual activity, or be invested in a wealthcreating activity. Interest is replaced by a return obtained from wealth-generating activities. Islamicbanking is regulated by the Sharia Law, Islamic law. The Sharia law encourages the use of profitsharing and partnership schemes and prohibits interest on money. Sources are the Qur’an and theSunna (teachings from the Prophet Mohammed’s acts and paroles).

ISSUING BANKThe bank which issues a documentary credit. It may also be referred to as an opening bank.

JUNCTIMSee forward purchase.

LETTER OF CREDIT A document established by the buyer for the purpose of financing international trade via substituting thebank’s credit for that of the buyer. A letter of credit is usually subject to the ICC Uniform Customs andPractice (UCP600) for documentary credits.

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The document states the amount and the terms under which the bank will pay the exporter whendocuments are presented to the bank.

LETTERS OF INDEMNITYLetters of indemnity, or guarantees, are sometimes issued by banks when bills of lading or other 

transport documents go missing on goods shipments. Typically, such guarantees are issued for between 100% and 200% of the value of the goods.

LIBORLondon Interbank Offered Rate (Libor) of interest on deposits traded between banks. These rates arecommonly quoted on a one-month, three-month, six-month and twelve-month basis.

LINE OF CREDIT A buyer credit arrangement set up to finance multiple contracts subsequently entered into andnominated to the lender by the buyer and accepted by the lender as eligible for finance under the line.Lines of credit may either be for miscellaneous capital goods purchases (usually known as general

purpose lines of credit) or for multiple contracts associated with one project (usually known as projectlines of credit).

LOCAL COSTSThose expenses incurred in the buyer’s country which are provided by the supplier. The export creditagencies do not usually finance or guarantee these costs but may do so up to 15% of the export value.

LOAN GUARANTEES  AND GUARANTEES FOR LEGAL PROCEEDINGSBank loans are often made conditional on security provided by the borrower or a third party. A bankguarantee is one of the means by which the lender can obtain assurance that the loan will be repaid.Bank guarantee instruments are also issued in respect of legal procedures, for example: legal costsguarantees and distraint guarantees.

LONG TERMUsually any credit period over five years.

 

LUMP SUM A fixed amount agreed at the outset of a contract, payable by the buyer for a specified task.

MAINTENANCE BOND A bond issued to support a maintenance contract to assure the buyer that the supplier will meet his

obligations under the maintenance contract.

MANUFACTURING PERIODThe period during which goods are manufactured, usually lasting between signature of the contract andshipment of the final terms.

MATCHING

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The ability of one export credit agency to match the credit terms and conditions of another, under thearrangement on guidelines for officially supported export credits.

MATURITYThe date on which a bill of exchange, promissory note or other debt instrument becomes due for payment.

MEAN COMMISSIONINGUsually the date on which 50% of the buy value of the units to be commissioned, and thereupon to behanded over to the buyer for use, are commissioned.

MEAN DELIVERYUsually the date by which 50% by value of goods to be delivered or the services to be rendered havebeen delivered or rendered.

MEDIUM TERMUsually any credit period between two and five years.

MIXED CREDITExport financing that includes a combination of export credit agency credit and concessional financing.Under the OECD if the subsidy element (concessional) is greater than 35% the entire loan isconsidered aid. This is also referred to as tied aid.

MULTILATERAL LENDING AGENCYFinancial institution jointly owned by a group of countries designed to promote international andregional economic cooperation.

These lending agencies are designed to help develop productive facilities and to further social andeconomic growth in member countries. Examples are the Asian Development Bank (ADB), the Inter-

 American Development Bank, the International Finance Corporation (IFC), and the European Bank for Reconstruction and Development (EBRD). For a full list see Trade Finance’s annual World Official

 Agency Guide.

MULTI-SOURCING An expression used to describe the provision of goods or services from a number of different countries.

MURABAHA A type of Islamic finance, Murabaha deals are more usually found in trade finance, typically involvingthe purchase and sale of commodities to generate a profit, which is a substitute for interest paymentson a commercial loan. Kuwait's first low-cost airline, Jazeera Airways, closed an innovative Islamic pre-delivery financing in 2005 (see Airfinance Journal June 2005). Under the terms of a Murabahaagreement, the airline instructs the financier to purchase commodities under a deferred paymentarrangement. The financier then sells the commodities to release funds, which are then made availableto the airline. The airline then reimburses the financier the cost of the commodities it purchased on aninstallment basis, which includes an agreed mark-up. The mark-up is the bank's profit and is used as asubstitute for the charging of interest. The mark-up can be calculated as a fixed lump sum or as a

percentage of the financed amount. This type of structure is Shariah-compliant because the bank takesthe title to the commodities, and therefore taking real risk to itself and the airline through the buying andselling of commodities.

NEGOTIATION FEE (MANAGEMENT FEE) Additional amounts payable to lenders. A once-only fee payable on establishment of the finance.

NEGOTIATING BANK A bank buying the documents which obtains the right to deal with the documents any way it must to

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ensure repayment.

NOMINATED BANK A bank designated by the issuing bank to which the beneficiary presents its documents and from whichit obtains payment of the credit sum. Depending on the terms of the credit, this may be the issuingbank, the advising bank or some other bank.

NOSTRO ACCOUNTUsed to facilitate international payments, this is the account of a bank with its agent or correspondent ina foreign country which is recorded in the currency of that country.

OBLIGOR A buyer obligated to pay (debtor).

OECDThe OrganISation for Economic Cooperation and Development.

OECD brings together the governments of countries committed to democracy and the market economyfrom around the world to:

• Support sustainable economic growth

• Boost employment

• Raise living standards

• Maintain financial stability

• Assist other countries' economic development

• Contribute to growth in world trade

The organisation provides a setting where governments compare policy experiences, seek answers tocommon problems, identify good practice and coordinate domestic and international policies.

OECD ARRANGEMENT An agreement by members of the OrganISation for Economic Cooperation and Development (OECD)to limit credit competition among member governments in officially supported export credits. This iscommonly known as the arrangement on guidelines for officially supported export credits.

OFF-COVERUsed by export credit agencies to describe importing countries to which they will no longer extendinsurance cover.

OFFSETOffset is one type of countertrade trading relationship. Offset agreements are usually practised bygovernments and cover military and important civil procurements. Governments award business to acompany in another country, and in return for the contract, the price paid is offset by the companyproducing the product in the buying country.

OPEN ACCOUNT TRADINGTrading in which the importer pays after the exporter has dispatched the goods.

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PARALLEL TRADINGSee counterpurchase.

PARIS CLUB

Meeting of public-sector creditors in Paris to negotiate the rescheduling of sovereign debts.

PAYMENT METHODSSight payment: The credit is payable immediately against presentation of documents.Negotiation: The credit sum is available immediately against presentation of documents andnegotiation (purchase) by the bank of (normally) a bill of exchange (draft) drawn up by the beneficiary.

PERFORMANCE BOND A bond provided by a bank or an insurance company on behalf of a contractor in favour of the buyer promising compensation, usually on demand for bank bonds, in the event that the goodssupplied/services performed do not meet the agreed contractual specifications.

POLITICAL RISKRisk that execution of a contract will be prevented by political causes such as political violence,expropriation or currency inconvertibility. Political risk also covers default by a public-sector buyer.

PRE-EXPORT FINANCEFinancing that takes place before the product is ready for export. For example, an edible oil exporter might receive pre-export finance to enable it to buy seeds which it will eventually use to make the oil.This term is most often used in relation to the petroleum sector.

PRE-SHIPMENT RISKEvent causing loss which occurs after contract signature but before shipment of the goods.

PREMIUMThe amount or amounts paid by the insured as consideration for covering the risks.

PRIPolitical Risk Insurance

PRINCIPAL (VALUE)Contract value (does not include interest).

PRIME BANK GUARANTEES (PBGs)Prime bank guarantees are used by fraudsters in schemes which claim that bankers use PBG to raisecapital, and that the markets for such transactions are conducted in secret. Investors are tricked intobuying into non-existent PBG markets. Sometimes fraudsters may persuade banks to issue PBGs bypersuading them that genuine markets exist for these phoney instruments.

 

PROGRESS PAYMENTPayments due from the buyer to the supplier during the contractual period, which might be financedunder a buyer or supplier credit financing.

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PROMISSORY NOTEThe debt instrument evidencing an obligation of the importer (buyer) to pay the exporter (seller) or lender in the case of a buyer credit. These notes can be transferred by endorsement.

PROTEST A legal document showing that a bill of exchange was presented to the drawee for acceptance/payment and was refused.

PROVEN DEFAULT BOND A bond issued by a surety or insurance company which is a commitment to perform under a contractand/or pay a sum of money. There must be firm proof of the contract being defaulted on.

PURE COVER LOAN A loan where the interest rate is not officially supported, but where insurance/guarantees are providedto the lenders covering principal plus interest.

RECEIPTS OF SAFEKEEPING

These are used to trick people into parting with funds in fraudulent schemes. A bank customer entrustsdocuments and/or other items to his bank for safekeeping, and asks the bank to issue a receiptspecifying the items deposited. The customer uses the letter to trick victims into parting with money onthe false understanding that he is reliable because he has a receipt of safekeeping. In reality, thedocuments and other others deposited with the bank are worthless.

RECEIVABLESMoney owed to a business for merchandise or services sold on open account. Receivables are a keyfactor in analyzing a company’s liquidity.

RECOURSE

The lender’s right to recover funds (including interest where appropriate) from borrowers if they fail topay.

RED CLAUSE A credit where the advising bank makes pre-shipment advance payments to the beneficiary to help withthe beneficiary’s pre-export financing.

REIMBURSEMENT AUTHORISATIONThe authorISation or request to reimburse provided by the issuing bank to the reimbursing bank.

REIMBURSEMENT UNDERTAKING An independent undertaking to reimburse provided by the reimbursing bank in favour of the claimingbank in accordance with a request to that effect by the issuing bank.

REIMBURSING BANK A bank designated by the issuing bank from which an authorISed bank that has made a paymentunder the credit may obtain reimbursement.

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REMITTING BANKThe bank instructed by the exporter/seller in the handling of collections. The remitting bank will, in itsturn, instruct the collecting bank.

RESIDUAL RISKThe proportion or percentage of the financed amount (principal plus interest), which is notinsured/guaranteed by an export credit agency.

RETENTION BOND A guarantee to a buyer that, if problems occur in a contract subsequent to its completion, retentionfunds will be callable.

REVOCABLE CREDIT A credit which can be cancelled or amended unilaterally by the issuing bank.

REVOLVING CREDIT A credit where the amount of available drawings is reinstated automatically after a stated period of time.

RIBAThe Islamic finance term for interest.

SECURITISATIONThe transformation of the loan asset into a liquid security which is then distributed to investors via thecapital markets.

SHARIAIslamic law.

SHORT TERMUsually any credit period up to two years.

SOFT LOAN A loan made at a concessional rate and term.

SOVEREIGN BUYER A buyer that is owned by a national government and carries the full faith and credit backing of thatgovernment when entering into sales and credit agreements.

SPECIAL PURPOSE CORPORATION (SPC) An independent corporation with nominal capital which is a party to an export or project financing for purposes of holding title as a nominee or acting as a conduit of funds.

STANDBY LETTER OF CREDIT A letter of credit that provides for payment to the beneficiary evidenced by certification that certaincontractual obligations have been fulfilled.

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STRAIGHT DISCOUNTThis expresses the discount rate as a percentage discounted from the face value given the life of thespecific maturity or maturities. A straight discount does not represent a true interest cost.

SUKUK

 An Islamic bond financing. A sukuk (which works in a broadly similar way to a conventionalsecuritISation) is a bond or certificate that provides an investor with ownership or part-ownershipin the underlying asset, usufruct, or service.

 A sukuk is often combined with other Islamic structures such as an ijara, a mudaraba or amurabaha. The nature of the underlying asset and terms of the sukuk must be agreed on thesubscription date. The sukuk represents beneficial ownership of the underlying assets andtherefore entitles its holder to receive a pro rata share of profits generated by the asset (not afixed return tied to their face value). A Sukuk can also be issued in tradable form and listed onapplicable investment exchanges.

SUPPLIER CREDIT A financing arrangement under which the supplier agrees to accept deferred payment terms from the

buyer, and funds itself by discounting or selling the bills of exchange or promissory notes so createdwith a bank in its own country.

SWIFTSwift is the Society for Worldwide Interbank Financial Telecommunication, a member-ownedcooperative through which the financial world conducts its business operations with speed, certaintyand confidence. Over 8,300 banking organisations, securities institutions and corporate customers inmore than 208 countries trust Swift every day to exchange millions of standardised financial messages.

SWINGSwing is the term used to describe the amount of imbalance which may arise on a bilateral clearingaccount.

SWITCH TRADINGThis is when a third party buys the imbalance that has arisen on a bilateral clearing account in hardcurrency but at a discounted rate.

TAKE-AND-PAY CONTRACT A contract that requires the buyer to take and pay for the goods or services only if delivered.

TAKE-OR-PAY CONTRACT A contract with an unconditional obligation on the buyer to pay even if no goods or services aredelivered or provided by the seller.

TENDER BONDSTender bonds (or bid bonds) are often stipulated by governments and other public sector agencies inconnection with international public invitations to tender. Tenderers must post a bond. This is hoped to

deter companies from rejecting the contract when it is awarded to them because they have lost interestin it.

TENDER TO CONTRACT PERIODThe period of time between submission of a tender and signature of a contract.

TOLLING

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In a tolling deal the customer provides the raw material (for example, steel ingots) and hires thecapacity of the factory to turn it into the final product (for example, steel tubes). The final product is thensupplied to the customer, who pays in cash. Throughout the process, the customer retains ownershipof the raw material.

TRANSFER RISKThe risk or inability to convert local currency into the currency in which debt is denominated and/or theability to transfer the funds to the country of the lender/exporter. Also known as conversion risk.

TRANSFERABLE CREDIT A credit which allows the beneficiary to transfer part, or all, of the credit rights to a third party, or parties,if part shipments are allowed.

TRANSIT CREDITThis is where a bank in a third country acts as an intermediary between the issuing bank and theadvisory bank.

TRANSPORTATION BONDSThese cover advance payments made by the employer to the contractor for the specific purpose of importing capital goods or materials. Normally they operate from the moment the materials arrive in theport or airport of destination until delivery on site.

UNFAIR CALLING INSURANCEInsurance to protect the exporter against a bond being called without good reason.

UNIFORM COMMERCIAL CODE (UCC)The Uniform Commercial Code (UCC) provides comprehensive standard rules of commercial law that

are adopted at state level by nearly all the individual states in the US.The UCC is drafted by the National Conference of Commissioners on Uniform State Laws incoordination with the American Law Institute.

UNIFORM CUSTOMS AND PRACTICE FOR DOCUMENTARY CREDITS (UCP) A set of rules and guidelines, drawn up by the ICC primarily for banks, relating to the issue andhandling of letters of credit. It is applied virtually worldwide. The latest revision is UCP600 which cameinto effect on July 1 2007.

UNIFORM RULES FOR COLLECTION (URC) A code of practice for banks regarding collections drawn up by the ICC. It is observed by most tradingnations.

USANCE LETTER OF CREDIT A deferred letter of credit without bills or notes issued under it.

VALIDITY DATEThe date on which a bond or guarantee expires.

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VOSTRO ACCOUNTUsed to facilitate international payments, this is the account of a bank with an agent or correspondent ina foreign country which is recorded in the currency of the bank’s own country.

WAREHOUSE RECEIPTSWarehouse receipts provide evidence that specified physical assets of a creditor are being held instorage. They may be used as a form of guarantee in countertrade operations.

WORLD TRADE ORGANISATION (WTO)The WTO is the only global international organization dealing with the rules of trade between nations.

 At its heart are the WTO agreements, negotiated and signed by the bulk of the world’s trading nationsand ratified in their parliaments. The goal is to help producers of goods and services, exporters, andimporters conduct their business.